Sunday, January 3, 2010


Tractor gaining ground; other businesses to chip in
The company’s tractor business has significantly turned around with its profitability (EBITDA margins at 12-13%) now comparable to the industry. Escorts has revamped its dealerships and plans to launch new products to consolidate its leadership. Further, on the strategic level, the management plans to evolve Escorts into an infrastructure company; it expects to leverage on government’s expanding railway budget and metro-linked projects to expand its railways segment (where it supplies braking systems) over the next three years. Similarly, it (recently freed from a non-compete clause) plans to launch a slew of new products in the construction business.

On a firm footing post restructuring; balance sheet strength to shine
Escorts has successfully restructured its business following its precarious position in 2003. The company has divested its non-core businesses and has built a strong platform for its three existing business lines—tractors, railways, and construction. The reorganisation has been accompanied with a balance sheet restructuring—D/E is now at 0.12x; the company has adjusted bad debts/provisioning/write offs against business restructuring reserve.

Cost cutting; changing product profile to drive profitability
We expect the company’s EBITDA margins to improve from 7.6% in FY08 to 10.6% in FY10E, leading to an EPS CAGR of 70% over FY08-11E (albeit on a low base). We believe profitability in the tractor segment can be maintained with higher operating leverage and various cost cutting measures including better supply chain management and employee costs (reflected in the tractor business EBITDA of ~13% in the past two quarters). Also, the infrastructure/construction business with its new product range could begin to turnaround in FY10.

Outlook and valuations: Positive; initiate coverage with ‘BUY’
We believe Escorts is now more focused with the teething balance sheet issues subsiding. While in the near term the tractor business is on track, we are also enthused by the company’s focus on segments in the infrastructure space. On our estimates, the stock trades at a P/E of 10XFY10E and 9XFY11E, respectively, considerably lower than its peers. We initiate coverage on the stock with a ‘BUY’ recommendation and a target price of INR 170, implying a P/E of 12x one year forward earnings.

To read the full report: ESCORTS